Accounting for Government Fees

One objective of this blog is to push out to the academic community decisions made by the FASB. Recent Acts of Congress (Health Care and Education Reconciliation Act) has resulted in additional fees levied on health insurers. How companies should account for these fees is the topic of the most recent Accounting Standards Update (ASU), and provides an interesting topic on what constitutes a liability.

The Act imposes an annual fee on health insurers (beginning in 2014) that is based on the firm’s net premiums written during the preceding year (year t-1). The fee becomes payable on day 1 of year t as long as the firm continues with business on day 1, and the fee is due no later than September 30.

The EITF took up the issue of how health insurers should account for these fees, and prior to that, how pharmaceutical companies should account for similar fees levied against them by these Acts. A consensus is reached on EITF issues when no more than three members present at the meeting object to the proposed position. The consensus position must be exposed for public comment and ratified by the FASB.

In the case of fees levied by these Acts (both for health insurers and pharma co’s), the EITF consensus is to require that firms estimate a full liability on day 1 of year t for the obligation to pay the annual fee, which is the date the obligation is legally payable to the government. The debit is a deferred cost that is amortized on a straight-line basis over the calendar year. In taking this view, the EITF noted that industry participants view the fee as a cost to participate in the government programs for year t, which justifies recognizing the expense throughout year t. While sales in year t-1 is used to measure the liability, this is viewed merely as a measurement mechanism and not a triggering event to recognize the liability.

The Board ratified this decision with a 6-1 vote. Let’s consider the contrarian point of view.

The fee is essentially a tax that is based on revenues from contracts written in year t-1. We are OK with GAAP requiring that income tax expense be recognized in the same year that income is recognized, because that is a better reflection of operating profit, even though the tax isn’t necessarily paid in that year. Why, then are similar government fees not recognized when the corresponding revenues upon that fee is based is recognized?

The Task Force decided that “the fee does not represent a cost related to the acquisition of policies that is consistent with the definition of an acquisition cost….” However, paragraph 944-30-55-1A of the Codification states that direct acquisition costs are “…costs related directly to the insurer’s acquisition activities … that would not have been incurred by the insurance entity had the acquisition contract transaction(s) not occurred.” That seems to describe the new government fee, as the fee would not exist had revenue not been generated in year t-1.

The one FASB dissenting vote on this ASU was made by Hal Schroeder. The basis for his dissent can be read in the document, but essentially, he suggests that firms are incurring a constructive liability in year t-1 when they recognized revenues, which should be accrued and fully recognized by day 1 of year t. Given that we assume firms are going concerns, this seems like a reasonable position.

If anyone has other views or knows of academic research that can shed light on this issue, I would be interested to hear your comments. At least, this case might provide material to stimulate class discussion on what constitutes a liability and appropriate expense recognition.

Lynn Rees

Lynn Rees is the Rainey Chair of Accounting at Texas A&M University. He recently completed an appointment as the FASB Research Fellow for the 2011-12 academic year. His research and teaching interests are financial reporting and how capital markets use accounting information.
The views expressed on this site are those of the writer and do not necessarily reflect official positions of the Financial Accounting Standards Board. Official positions of the FASB are arrived at only after extensive due process and deliberations.

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2 comments on “Accounting for Government Fees”

Good post. Seems like the debate is whether this is a cost of writing policies in year t-1 or t.

You correctly point out that when a company pays income taxes in year t due to profits earned in year t-1, we try our best to record a liability and an expense in year t-1. What differs in the health care fee case?

The only difference I see is that under income tax regulations, if the entity continues to exist in year t, the IRS is going to come looking for those taxes associated with profits earned in year t-1.

Based on your description of the health care fee, suppose the insurance company continues to exist in year t, but decides to eliminate its health care line of business. It still sells auto, home, and other insurance. If I am reading your post correctly, sounds like the insurance company does not owe this “tax” regardless of how many policies were written in year t-1.

If so, writing health care policies in year t-1 and continuing as a going concern is not sufficient to obligate the company. The obligating event is the decision to remain in the health care insurance market in year t.

If this makes sense, then I guess the real tension boils down to what should we assume about going concern? The company continues operating as a business? The company continues operating in the exact same line of business?

Bob is exactly right. We have been discussing the same issue at the IFRS Interpretations Committee, as these kind of fees/taxes are becoming quite common aroung the globe. The hardest question is when to recognize the fee if it is calculated based on 20X1 activity, but it only payable by those companies that have activity in 20X2. By Dec. 31, 20X1, we’re all pretty darned sure there will be activity in 20X2, but as it happened yet, it isn’t clear there is an obligation at that date. The question really is whether the payment is a cost of doing business in 20X1, or a cost of doing business in 20X2. Tenatively, we’re headed the same place as the FASB/EITF — the expense is recognized in the period in which activity triggers an obligation to pay.

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